Is Hunan Huamin Holdings (SZSE:300345) Using Too Much Debt?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. Importantly, Hunan Huamin Holdings Co., Ltd. (SZSE:300345) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Hunan Huamin Holdings

How Much Debt Does Hunan Huamin Holdings Carry?

You can click the graphic below for the historical numbers, but it shows that as of March 2024 Hunan Huamin Holdings had CN¥182.5m of debt, an increase on CN¥60.0m, over one year. But on the other hand it also has CN¥287.5m in cash, leading to a CN¥105.0m net cash position.

A Look At Hunan Huamin Holdings' Liabilities

Zooming in on the latest balance sheet data, we can see that Hunan Huamin Holdings had liabilities of CN¥1.38b due within 12 months and liabilities of CN¥556.0m due beyond that. On the other hand, it had cash of CN¥287.5m and CN¥400.7m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥1.25b.

This deficit isn't so bad because Hunan Huamin Holdings is worth CN¥3.70b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. While it does have liabilities worth noting, Hunan Huamin Holdings also has more cash than debt, so we're pretty confident it can manage its debt safely. There's no doubt that we learn most about debt from the balance sheet. But it is Hunan Huamin Holdings's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

In the last year Hunan Huamin Holdings wasn't profitable at an EBIT level, but managed to grow its revenue by 199%, to CN¥1.2b. So its pretty obvious shareholders are hoping for more growth!

So How Risky Is Hunan Huamin Holdings?

We have no doubt that loss making companies are, in general, riskier than profitable ones. And the fact is that over the last twelve months Hunan Huamin Holdings lost money at the earnings before interest and tax (EBIT) line. And over the same period it saw negative free cash outflow of CN¥427m and booked a CN¥251m accounting loss. Given it only has net cash of CN¥105.0m, the company may need to raise more capital if it doesn't reach break-even soon. Importantly, Hunan Huamin Holdings's revenue growth is hot to trot. High growth pre-profit companies may well be risky, but they can also offer great rewards. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For example, we've discovered 2 warning signs for Hunan Huamin Holdings that you should be aware of before investing here.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com